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Your investment dealer goes bankrupt- part 3- preventive measures Print
preventionimages.jpgMost retail investors use an investment dealer or broker to make their investments. Any investor who uses an intermediary must realize that the collapse (very unlikely but not impossible) of their financial intermediary may, depending on the circumstances and the availability and terms of the industry protection fund, expose you to serious financial loss. In the last commentary in a 3 part series on this subject we will now look at what preventive steps investors can take to minimize intermediary insolvency risk.


In the first commentary in this series we looked at the existing dealer bankruptcy protection regime and some common misconceptions about how you are protected. In part 2 we looked at which types of investors should be most concerned by the risk of dealer bankruptcy. We now complete the picture by looking at available preventive steps to minimize intermediary insolvency risk. These fall into 4 broad categories:

  • Change how your investments are held to minimize dealer bankruptcy risk
  • Accept dealer bankruptcy risk, but seek to maximize CIPF coverage
  • Minimize financial intermediation through DRS
  • Use financial intermediaries that are not securities firms

We will now look at each.

Change how your investments are held on your behalf

Part 12 of Canadian Bankruptcy and Insolvency Act (BIA)  provides that the assets of all customers generally fall into a single, common pool, and the rights of the customers become financial claims to be dealt with uniformly by the trustee. The practical result? If  there is a deficiency (i.e. there are not enough assets to satisfy all customer claims) the customers will not be fully paid in the bankruptcy, but become dependent on the CIPF fund to make up the deficiency.

The BIA (s.253) does however have an exception for so-called customer name securities:

“customer name securities” means securities that on the date of bankruptcy of a securities firm are held by or on behalf of the securities firm for the account of a customer and are registered or recorded in the appropriate manner in the name of the customer or are in the process of being so registered or recorded, but does not include securities registered or recorded in the appropriate manner in the name of the customer that, by endorsement or otherwise, are negotiable by the securities firm;

For these types of securities, the BIA (s.263) in effect treats these securities as the property of the customer, and directs that the trustee shall deliver to the customer the customer name securities, net of any indebtedness of the customer to the firm.

Therefore, customers have an incentive to seek to have their investments qualify as customer name securities, and in effect stay outside of the financial intermediary bankruptcy process. The key requirement is that the investments be registered or recorded in the appropriate manner in the name of the customerbut does not include securities registered or recorded in the appropriate manner in the name of the customer that, by endorsement or otherwise, are negotiable by the securities firm.

In the normal course customer investments are held in street name (see Wikipedia), not registered in the name of the customer (or if so registered, are endorsed in blank in favor of the dealer), and do not qualify as customer name securities. The customer would need to specifically request that his bond and share investments be registered in his (her) name and that the dealer continue to hold them on behalf of the customer; thereafter they would constitute customer name securities. Faced with such a request a dealer will be reluctant to change how they hold client securities. The dealer may take any of a number of actions, including:

  • Best case (but in our view unlikely) - agree to the request altogether
  • Worse case-refuse altogether (in our view the likely response)
  • Accept to do so, but insist that the client sign some sort of separate safekeeping agreement to govern the holding of the securities (and probably pay ongoing fees to the dealer).
  • Accept to re-register the securities, but then decline to continue holding the investments for the customer (in which event the customer may have to take responsibility for physically holding them, not necessarily an interesting task
  • Refuse to do so, but offer to assist the client (probably for a small fee) in registering the securities under the DRS system, which we discuss below,

If any of our readers have experience or have had discussions with their investment dealer on this point which they are prepared to share with us, please contact us. 

  GIC’s are a special case, which we discussed in the second commentary in this series. CIPF, in its correspondence with us PDF doc.2150, states:

  • In general customer-name securities are in non-negotiable form and the customer would have to provide a power of attorney to the Member in order for it to sell the security on the customer's behalf.  The practice of holding securities in customer name in safekeeping at a Member firm will vary.  You are right that the costs of administering customer name securities makes it uncommon.  Its likely that if the customer wants to hold a GIC in client name that the dealer member would deliver the certificate to the customer upon completion of purchase (rather than hold it in safekeeping). You would probably be best to direct your question regarding administrative implications of holding customer name securities to a Dealer Member.

What we conclude from the above is that is neither easy nor customary to arrange your affairs so that your GIC’s bought through an investment dealer are held by the dealer in a way that qualifies them as customer-name securities. This is obviously a disappointing conclusion for investors who buy GIC’s specifically because they want to qualify for a government guarantee if things go wrong AND also wish to use their dealer to hold them on their behalf. If any of our readers have experience or have had discussions with their investment dealer on this point which they are prepared to share with us, please contact us. 

Last Updated ( Sunday, 23 September 2012 )
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